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WTI played out exactly as predicted, without as much of a pull back as I was hoping for though. I can see the CNBC guys crying themselves to sleep. The front page of the site is completely devoid of articles about oil. I know it’s beating a dead horse, but there is no limit to the satisfaction I get from mocking that farce of a “news” and “analysis” network.

Now with $58 resistance broken, the sky is the limit… or at least $67 (for now). The icing on the cake is that this break came on a down day for the market, again proving that this oil price action is NOT a currency trade. Back at the gas pump though, my enthusiasm withers and dies.

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Dollar down, oil up. It’s not a currency trade. It’s not a conspiracy theory. The Iran deal has had no meaningful effect (in fact it’s done the opposite of what the pundits called for). It’s simple trading pressure and herd mentality. Smart money continues to price manipulate and slaughter the dumb money. The CNBC boys are so confused right now. Their “oil glut” is a bust. Their website is now completely devoid of anything with the word “glut” in it and limitless numbers of articles/op-eds calling for $20/barrel oil. Those are now replaced by articles talking about oil’s impending rise to the moon and how to get on board. Meanwhile, those of us that bought the bottom because we knew the fundamentals were hyped and oil was grossly under-priced are now sitting pretty.

We are at a bit of a critical point here though. Breaking above what had become a reasonably established down-trend line is great and it led to exactly the type of price runway one would expect, but it has run us straight into major resistance rather quickly and possibly without much steam left. I’m not sure it needs to break the $53 resistance today, but certainly tomorrow or at the very least before it heads any lower than $51.50ish. I would really like to see a close above $53.30. If it heads back down before breaking that barrier, I think $48 will be the net to catch it, but that would likely shift my outlook a bit.

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If there’s one thing CNBC and the Wall St. pundit, self-proclaimed “analyst” crowd is good at (and, trust me, there is only one thing) it’s retroactively applying fundamentals to explain current price movement. I mentioned this in my last post about oil as it related to their constant talk of oil supply shortages and the world’s impending dry up of oil supply/out of control oil demand back in July 2014 when WTI was over $100/barrel – then suddenly just a few months later WTI had dropped in value by 50% and the pundits were attributing it to a “supply glut” and no oil demand. They flip and flop like this when “analyzing” large price movements of any commodity or equity, desperately cherry picking fundamentals after the fact in an attempt to find a “logical” explanation for major movement that really can only be explained by trading action. The idea is to maintain the belief amongst retail traders/investors that price movement is always dictated by fundamentals, never simply by smart money slaughtering dumb money (which is actually what dictates short-term price movements). This false application of fundamentals keeps the efficient market theory alive – the idea that the current price is always the “correct” price from a fundamentals perspective. While this practice of flinging random fundamentals at a price move and seeing what sticks is used everywhere, it’s more visibly absurd with oil because of how volatile the price of oil typically is. It takes quite a bit of skill (or stupidity) to be able to flip-flop on fundamentals analysis fast and hard enough to keep up with oil price fluctuations, which brings me to my point…

On my ride in to work this morning, the gas station I typically buy my gas at had 87 octane posted at $2.03/gal (sucks to live in CT, I know). On my way home, it was $2.22. Every gas station on the ride home was up fifteen to twenty cents. What happened in eight hours to justify that? Let’s take a look at the price of US crude (WTI):

Ignore today just for a second. In the three trading days from last Thursday (the 1/29) to yesterday (2/3) the price of oil rocketed up almost 25%. Why? CNBC and market pundits everywhere can’t stop talking about the oil glut. We’re just swimming in oil that no one wants and that’s why oil prices have drilled themselves into the ground (zing!) – so says the pundits. Hell, we just got another report showing yet another increase in oil inventories… but oil shoots to the moon in the course of only three days. Did the fundamentals change? Nope. Did the glut go away (pretending it existed in the first place)? Nope. Did demand increase? Nope. This increase was so absurdly large and out of the blue (ignoring technicals) that CNBC didn’t even bother trying to fabricate an explanation this time. They’re writing it off as “price volatility”, a funny explanation for a 25% swing, coming from the guys that want you to always believe the current price of anything is the “correct” price. In fact, I already explained these kinds of price swings in my last post. The retroactively applied fundamentals used to explain the huge plunge in oil prices are a farce. Yes, as I’ve pointed out many times, the price fall is in large part due to Saudi Arabia’s actions, but the effect is a mental one more so than a fundamental one. As my last post showed, the extra supply from new US and Russian wells is not even remotely enough to explain the massive depth of the preceding four months’ price decline. The psychological effects of Saudi Arabia’s policy, however, were more than enough to fire up the speculation machine. It’s that rampant speculation and gambling that drove WTI down over 50% in four months and the same rampant speculation and pure trading pressure drove it back up 25% in three days (and, just as suddenly, back down 10% today). What’s been created is a herd of individual traders buying and selling not based on fundamentals, but on what they feel the rest of the herd will do. This is the basis of a market that has become almost completely disconnected from reality. Don’t buy into the falsely applied fundamentals, slapped on after the fact in an attempt to write a retroactive narrative long after the events have transpired. The vast majority of oil’s movement has been and continues to be purely trading pressure. Oil’s fundamental picture has not changed significantly in almost a year. The efficient market theory is bunk – the current price is not always “correct”. Once you realize that, the unanswered question remains what it has been all along: was oil over-priced in July 2014 or is it under-priced now? Based on an objective look at the fundamentals, it cannot be both. Figure out the answer to that question and you’ll know where oil is headed in the long-term.

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I had no intention of this oil discussion turning into a running series, but it has because the oil price plunge has been a fascinating chess game to watch unfold. Previous posts on oil can be found (in order) here, here, here, and here. Today, there are two points I’d like to talk on. Now, to the Batmobile!

I recently came across an interview with the Saudi oil minister Ali Naimi that took place in mid-December. The interview (not to be confused with the terrible movie of the same name) is confirmation of exactly the strategy I proposed in my original oil post, this time coming straight from the Saudi’s mouths. The full interview is a good read, but I want to pull a few key quotes from it. In my original post on oil, I proposed that OPEC wouldn’t cut production purely because that was the most logical business decision for them; then normal market forces would take the reins from there. Since then, and now with everyone and their mother on the oil talk bandwagon, there’s endless conspiracy theories being thrown around about the US trying to hurt Russia, ISIS flooding the oil market to hurt the US economy, etc. Reality is much simple than that.

Interviewer:

Will Saudi Arabia not cut production if the Russians do not cut?

Ali Naimi:

First of all, why did we decide not to reduce production? I will tell you why. Is it reasonable for a highly efficient producer to reduce output, while the producer of poor efficiency continues to produce? That is crooked logic. If I reduce, what happens to my market share? The price will go up and the Russians, the Brazilians, US shale oil producers will take my share.

…..

It is also a defense of high-efficiency producing countries, not only of market share. We want to tell the world that high-efficiency producing countries are the ones that deserve market share. That is the operative principle in all capitalist countries.

This was exactly my point from day one. There is no grand conspiracy. Why would OPEC cut production to bolster prices when higher prices will favor the marginal fracking operations in the US and Russia?

Interviewer:

If the price remains at roughly $60/B the call OPEC crude will be 2mn B/D less than current output. If OPEC production does not fall by 2mn B/D, is there some point within the coming year at which OPEC would have to take the decision to cut?

Ali Naimi:

I want to make one thing clear. It is unfair of you to ask OPEC to cut. We are the smallest producer. We produce less than 40% of global output. We are the most efficient producer. It is unbelievable after the analysis we carried out for us to cut.

…

If the price falls, it falls, you cannot do anything about it. But if it goes down, others will be harmed greatly before we feel any pain.

Interviewer:

Venezuela needs a higher price than you

Ali Naimi:

That is true, but that is not of any use. But all we will do if we allow prices rise as we did in 2008 in Oran [is to raise] the production of marginal barrels. This was less than 1mn b/d [in 2008], today it is around 4mn b/d.

Has that point been sufficient reinforced? No conspiracy. No Russian punishment. Turn off the idiots on CNBC. OPEC is on the same page that I was on when I presented what I believed would be their strategy in my original post. It’s simply wise business people looking out for their own interests by making good business decisions.

With that clear, we come to my second talking point. Anyone that’s watched CNBC or read any so-called “expert” analysis has surely heard about this oil glut we have. Supplies are just through the roof and demand is nearly at zero. That’s why we have such low oil prices… except it’s not. In fact, I find this hilarious. As recently as six months ago, we were talking about surging demand in developing markets driving world demand skyward.

The conclusion, as recently as last July?

The story of oil in 2013 was one of surging US production and increasing demand in developing countries. The US continues to lead the world in increasing oil production, while developing countries — in particular the Asia-Pacific region — have added the vast majority of oil demand in recent years. Arguably the only thing preventing the world from experiencing oil prices in the $150-$200/bbl range is the continuing shale oil boom in the US.

Yes, that’s right, $100+/barrel was not only reasonable given the supply/demand outlook, but we were barely holding off $150-200/barrel prices. That was in July. Last July. So what’s changed since July? Nothing.

Worldwide crude production increased 1.5% from Q2 to Q3 in 2014. A whopping 1.5%. Demand only increased 0.005% during that period, so let’s just say it didn’t increase at all. In Q4 of 2014, demand actually up ticked almost enough to meet production, while production only increased 0.00011% between Q3 and Q4 2014 (per above chart)… yet this is the period of the most drastic plunge in oil prices. There was virtually no change in the oil market between the time people were justifying $100+/barrel oil and the time people were calling for $20/barrel oil. So what gives? Oil is now worth less than half of what it was six months ago. Where are the fundamentals to support this drastic price swing? They don’t exist. Everyone is talking like they exist and “oil glut” is the new buzzword, but where’s the evidence?

It must be the rapidly growing oil stocks… oh wait it’s not. We’re in the same channel we’ve been in since 2009 and before.

Yes, there is a relatively small production surplus and it is predicted to grow into the first half of 2015, but we’re talking about a 55% drop in oil prices NOW. The current surplus does not account for a 55% price swing, especially when considering the impending drop in marginal well production at the new, lower oil prices. The facts just don’t agree with the narrative. That leaves us with two possible conclusions: oil was grossly overvalued in the summer of 2014 or oil is grossly undervalued today. If you believe $108/barrel was a reasonable oil price, then the only conclusion you can come to is that oil is currently grossly undervalued. If you believe oil’s current price is reasonable, then you can only conclude that it was grossly overpriced in July 2014. At the time, oil prices of $100+/barrel last summer were justified on the speculation of future shortages (that never panned out). Today we have the opposite. We have a massive plunge in oil prices based on the speculation of future surplus (but will it pan out?). What do those two explanations have in common? Speculation and no basis in our current situation. Lay people often joke about how fickle oil prices are and how they drastically increase seemingly with as little prompting as a change in the wind direction. There’s actually truth to this. I know it’s cliché to blame traders for commodity price swings, but unfortunately it’s also completely accurate. Fundamentals are an afterthought when it comes to prices of equities and commodities traded on the open market these days. Big money plays with the market to create profitable trades and then the “analysts” at CNBC and elsewhere swoop in long after the move to cherry pick fundamentals to mold into a false back story they can sell us on why the price change happened. Any event can be used as an excuse to drive prices up or down by completely unrealistic amounts (relative to fundamentals) in an attempt to make money. This is a fact that’s lost on the average American (like so many facts), but, funny enough, is not at all lost on the Saudi oil minister.

Interviewer:

Were you taken by surprise by how much [the price of oil] fell?

Ali Naimi:

No, we knew the price would go down because there are investors and speculators whose job it is to push it up or down to make money.